The Past Week: Misreading of Fed Message Causes Weekly Loss!
Stock Market: Stocks Fall For Second Straight Week!
Wall Street: Suffering Fed Woes!
by Ian Harvey
June 24, 2013
The Federal Reserve signaled this past week that the U.S. economy may soon be healthy enough to stand on its own after three years of being propped up by trillions of dollars of bond purchases.
However, while the trimming of the program should be viewed as a positive development, Chairman Ben Bernanke thoroughly spooked many market participants this past Wednesday by this statement that the central bank is likely to begin trimming down its asset purchases later this year, and halt the program entirely next year. The statement triggered a wave of selling on Wall Street and in bond markets, with the broad S&P 500 plummeting 3.9% over the two-day span -- pushing down year-to-date gains slightly south of 12%. Also, the Dow Industrials plunged as much as 460 points in just two days.
The three major U.S. stock market indexes ended the week down between 1.8% and 2.1%.
However, the Dow Jones Industrial Average and the S&P 500 finished Friday up 0.3%, after spending part of the day down. The Nasdaq closed down 0.2%.
On Wednesday and Thursday, the Dow shed more than 550 points, and stocks stayed on rocky ground Friday.
Bernanke's words have kept bond yields jumping. The 10-year Treasury yield hit nearly 2.54% Friday.
Investors have been bailing out of bonds and sending yields higher over the past month amid speculation that the Fed will soon taper its monthly bond purchases, known as quantitative easing.
Even after this week's sell-off, stocks are still way up this year. The Dow, S&P 500 and Nasdaq have gained between 11% and 13% since the start of January.
The Fed has been a major driver of the bull market over the past few months as it has injected liquidity into the markets. Traders say the coming shift in monetary policy will mean even more volatility in the months ahead.
The Fed Influence in the Past Week!
Uncertainty reigns as market participants are not clear in their heads about whether the Fed's commitment to initiate a tapering program in the near or more intermediate future is justified by the underlying performance of the economy. Whether that is momentum in the job market or inflationary pressure, neither of them seems to be supportive of an earlier tapering rather than a later one.
However, the Fed has confidence in its decision which will probably lead to more volatility.
Rates have been rising since early May, first on signs of improving jobs data, and then after Fed Chairman Ben Bernanke May 22 told Congress that the Fed could begin to "taper" back its bond purchases sometime in the next couple of meetings. On Wednesday, after the Fed met, he put more details around the plan and said if the economy improves enough, the Fed could begin to wind down its $85 billion in monthly purchases before the end of the year and complete the program by mid-year 2015.
The Fed also released an improved outlook for unemployment, with its range of estimates falling below 7 percent in 2014 and to 5.8 to 6.2 percent in 2015. The Fed forecasts also showed that more members see an early 2015 move to raise the target Fed funds rate, slightly ahead of what the markets had been expecting.
Investors have known that sooner or later the Fed would quit pumping $85 billion per month into the U.S. economy.
That money has been a big driver behind the stock market’s bull run in the past four years. It led to low interest rates that encouraged borrowing for everything from factory machinery to commercial airplanes to home renovations. Even though the economy hasn’t been great -- employment is still high and U.S. growth has been anemic – the situation could have been a lot worse. Investors were confident enough in a growing economy that the Standard & Poor’s 500-stock index hit an all-time high of 1,669 on May 21.
• The Dow Jones Industrial Average (DJI) fell 1.8 percent in the past week, to close at 14,799.40.
AT&T was the worst performing Dow component for the week, while Cisco climbed.
On Thursday, the Dow dived 354 points, or 2.3%, representing its largest one-day percentage decline since Nov. 7, the day after the U.S. election, and its largest one-day point’s drop since Nov. 9, 2011.
• The Standard & Poor's 500 Index (SPX), widely used by mutual funds as a proxy for the stock market, tumbled 2.11 percent in the past week, to finish at 1,592.43.
All key S&P sectors ended in the red for the week, dragged by utilities and telecoms.
June so far has been a tough month for stocks. The S&P is down around 2.5%, although it was able to close the week above the lows.
Since 1950, the S&P 500 has been down slightly in June, including a 5.2% loss in 2010 and an 8.55% slide in 2008. Over the past ten years, the best was 2012's gain of 3.99%.
• And the Nasdaq Composite Index (COMP) declined 1.94 percent in the past week, to end at 3,357.25.
• The CBOE Market Volatility Index (VIX) ), widely considered the best gauge of fear in the market, plunged 7.8%, or 1.6 points, to close at 18.90, after Thursday's spike higher that took it above the 20 threshold.
Still, the VIX surged 10.2% for the past week.
The CBOE Volatility Index .VIX, Wall Street's "fear gauge," rose 10.2 percent this past week, ending Friday at 19. The index has risen in four of the past five weeks since Fed Chairman Ben Bernanke first broached the phasing out of stimulus.
World Markets in the Past Week
The selling in the Japanese market has been quite heavy in the past week, and it is possible that the yen will continue to weaken, and by comparison that the country's stock market will move higher over the rest of the year.
Therefore, the correction should be viewed as a buying opportunity.
The comparison chart shows that the Nikkei-225 is still the leader for the year, up over 23%:
The SPY is now up just under 11%, while the German Dax is back to unchanged for the year after it also had a rough week. If our economy is going to get even better, as the Fed expects, then it should eventually lead to a turnaround in many of the emerging markets.
The Vanguard FTSE Emerging Markets ETF (VWO) is down about 16% for the year, but it could bottom out before the other world markets complete their corrections.
The iShares Dow Jones Transportation (IYT) was one of the weakest sectors in the past week, losing approximately 3%.
The weekly chart shows that it closed just above its 20-week ’Exponential Moving Average’ (EMA). The weekly Starc band is at $105.50, along with the 38.2% retracement support from the November 2012 lows.
The relative performance still shows lower highs (line a), but has not yet started a new downtrend. The weekly on-balance volume (OBV) has broken its uptrend (line b) and is now testing its still-rising WMA. There is initial resistance now at $113.50 to $114.40.
The weekly performance table below does not look good, with a 3.8% drop in the Select Sector SPDR Utilities (XLU), while the Select Sector SPDR Materials (XLB) was down just over 3%.
The best performers, if you can call them that, were the Select Sector SPDR Financials (XLF) and the Select Sector SPDR Industrials (XLI), down "only" 2.3%.
Earnings Reports for the Past Week
The market was looking for clarity from the Fed about the future of the QE program. But it didn’t like the surprisingly explicit timeline from Chairman Bernanke, and has been in a somewhat downbeat mood ever since.
The Q2 earnings season actually got underway this past week with the earning releases from FedEx (FDX), Oracle (ORCL), Adobe (ADBE), Darden (DRI) and others.
It hasn’t been a very inspiring start thus far, but all of these companies have been grappling with lingering issues affecting their businesses for awhile and their Q2 reports didn’t indicate that they had finally turned the corner.
Crude Oil in the Past Week
Crude oil broke out the week ending June 14, but reversed sharply to the downside this past week and closed below the support at $94.
Precious Metals in the Past Week
The gold futures dropped about $100 last week, which was the worst decline since the 1990s. The next key support is at $1,200 to $1,250, with major Fibonacci support at $1,150.
Of course, silver was hit even harder. Despite the very negative sentiment, there are no reasons to buy at this time.
At this point, the technical studies show no signs yet of the market bottoming out, as the strength early in the past week was short-lived. The daily technical studies are still in correction mode, while the longer-term patterns suggest that this current market decline will provide a good buying opportunity.
The turmoil in the markets was in reaction to the prospect of higher rates, exacerbated by the confirmation that the Fed would cut back their bond buying if the economy continued to improve.
The weekly bottom in long-term rates was confirmed at the end of May, when the yield on the 30-year T-Bond completed its reverse head-and-shoulders bottom formation. The chart shows that yields moved above the neckline (line a), which projects a move to the 4% level.
A similar formation in the ten-year T-Note yields was confirmed in the past week. Both yields are at or above the weekly Starc+ bands, indicating the yields have likely risen too fast. This makes a pullback in yields and a rally in bond prices more likely in the coming weeks. Bondholders should have a nice opportunity to reduce their exposure and shorten their maturities.
One should keep in mind that rates need to still move significantly higher to confirm that the long-term bull market in bonds is really over.
Economic Reports in the Past Week
On the economic front, last week's data was pretty good. The Empire State Manufacturing Survey beat expectations, as did the Housing Market Index, which moved above the 50 level for the first time since 2006.
Housing starts and existing home sales were also strong, but the homebuilders were hit hard in last week's sell-off. This is consistent with a further correction this summer that should present another good buying opportunity.
Consumer prices rose 0.1 percent for the month of May. This was the first increase in CPI since February and compares to a decline of 0.4 percent in April. The consensus expected CPI to rise 0.2 percent in May.
Core CPI, which excludes volatile food and energy costs, rose 0.2 percent in May versus a gain of 0.1 percent in both March and April. This compares to consensus estimates calling for an increase of 0.1 percent.
• Housing Starts
New home starts rose 6.8 percent in May to 914,000. This compares to 856,000 new starts in April and consensus expectations calling for housing starts of 950,000 last month.
• FOMC Rate Decision
In a press conference in conjunction with the FOMC rate decision, Federal Reserve Chairman Ben Bernanke said that the central bank could begin tapering its current $85 billion-per-month bond-buying program later this year amid signs of a strengthening economy.
The Fed, however, took no immediate action and officials voted to keep the program unchanged for the time being. The Fed also kept its benchmark interest rate unchanged at 0.25 percent and reiterated its commitment to keeping rates near zero until the unemployment rate comes down to 6.5 percent.
• Jobless Claims
Initial unemployment cliams rose to 354,000 for the week ending June 15 from 336,000 for the week ending June 8. This compared to consensus estimates calling for an increase to 340,000.
Continuing claims fell to 2.951 million for the week ending June 8 from 2.991 million for the week ending June 1. This compared to consensus expectations for a decline to 2.967 million.
• Existing Home Sales
Existing home sales rose from 4.97 million in April to 5.18 million in May. This compared to consensus estimates calling for an increase to 5 million.
• Philadelphia Fed
Manufacturing activity rose in the Philadelphia region in May. The Philadelphia Fed's Business Outlook Survey increased to 12.5 last month from -5.2 in May. This was the highest reported reading since April 2011 and came in well ahead of consensus expectations for an increase to -0.2.
• Leading Indicators
The Conference Board's Index of Leading Indicators rose 0.1 percent in May from an upwardly revised 0.8 percent in April. The consensus expected that the index would increase by 0.2 percent.
Conclusion for the Past Week
The Fed and policies in other countries should continue to drive market volatility in the near term. Economic conditions are improving and the outlook for the U.S. economy remains favorable.
Continue to view pullbacks in equities as buying opportunities to accumulate stocks in cyclical sectors as valuations remain below the longer-term average.
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